The real estate boom is now in its eighth year. The central banks’ ultra-lax monetary policy is considered to be one of the causes of this unusually long real estate cycle. But analysts are warning that the tide is about to gradually turn because a number of geopolitical risks – such as the uncertainties associated with Brexit and the trade war between the United States and China – are resurfacing with renewed strength. In fact, global economic growth has lost momentum somewhat recently. However, because there will be scarcely any changes to the low interest rates in the short to medium term and because the fundamentals in many sectors of the economy are still adequate, no really tangible reasons why the real estate boom might end are in sight.

Real estate service providers are especially optimistic about the hotel asset class. “There is a demand for hotel investments across the board: in the form of new builds, existing buildings or hotels in need of upgrading,” reports Alexander Trobitz, Head of Hotel Services at BNP Paribas Real Estate. He sees no evidence of any strong preferences in choice of location in the major markets. “As a rule, whenever attractive properties come onto the market, they also find a buyer.” Since the investment environment is still conducive, Trobitz expects the market to remain lively in 2019. Stefan Giesemann, Executive Vice-President of JLL Hotels & Hospitality Group, has a similar view of the situation. He believes that “Hotel investments are a success story second only to logistics real estate.”

There is a demand for hotel investments across the board: in the form of new builds, existing buildings or hotels in need of upgrading.

Higher demand, scarce supply

The fact that 2018 did not see record earnings on the hotel investment market does not contradict this statement. At €3.85 billion, the transaction volume was about 20 percent below the historical record of €4.9 billion in 2016, according to JLL, but that was due to scarce supply rather than dwindling interest on the part of investors. “It’s the same old story: investors are not able to act unless the right portfolio offer is available on the market,” says Giesemann. “A hotel property with long-term contracts promises a steady return on capital employed,” explains Andreas Löcher, Head of Investment Management Hospitality at Union Investment Real Estate GmbH. “That is why many investors have little desire to sell, preferring to benefit longer from the rental income.”

The demand for hotel property is driven not least by institutional investors. Real estate funds are among the most active groups of investors putting money into hotels in Germany. Hamburg-based investment manager Union Investment has a particularly long history of hotel investments. Last year alone, it put €280 million into hotel property. Over the last four years, the company’s activities were confined exclusively to buying; no properties were sold. Investments are made for a holding period of at least ten years. The hotels in Union Investment’s funds now have a total market value of €5.2 billion.

Invesco is also very active in the hotel segment. The company manages around 23 hotels with a volume of US$1.4 billion. Hans-Peter Hermann, Senior Director of Asset Management Hotels at Invesco Real Estate in Munich, believes that despite the great enthusiasm for hotels there are risks in some markets due to the rapidly growing supply.

Nevertheless, he still sees good opportunities to find deals offering reasonable yields. The crucial thing here, he thinks, is to have a clear and above all no-compromise investment strategy. He will continue to watch the markets closely, he says, but stresses that he believes the fundamentals for the hotel market are still positive. Andreas Löcher takes a similar view of the situation. The hotel expert believes that those investors who have established strategic partnerships, who understand developments and have a well-founded understanding of the hospitality industry and its products are well-positioned over the medium term.

Warning voices

Some real estate experts, however, see the investment boom on the global hotel markets as a warning signal. “Investors do not start to enter the megahotel business on a major scale until the advanced stages of a boom cycle,” says Thomas Beyerle, chief researcher with property consultants Catella. At the beginning of an investment phase, market participants pounce on office real estate, followed by retail and residential properties. “Only when these markets have been bled dry do specialist properties such as hotels appear on buyers’ radars,” says Beyerle. But that does not necessarily mean that we are facing the  threat of the real estate markets collapsing any time soon.

The fact that interest rates and yields on government bonds remain low would indicate that demand on the real estate markets from professional investors will continue to be high. For the hotel asset class this is reinforced by the rapid rise in international tourism figures. For example, according to the UN World Tourism Organization’s (UNWTO) latest World Tourism Barometer, 1.4 billion tourist arrivals were registered worldwide in 2018, which is six percent more than in 2017. Europe accounted for almost half of that number, chalking up 713 million international arrivals with at least one overnight stay. UNWTO predicts a rise to 1.8 billion international trips by 2030. JLL is expecting the major European hotel markets such as Berlin, Barcelona, Budapest, Madrid, Milan, Munich, Rome, Vienna and Zurich to see growth in RevPAR – revenue per available room – over the same period to be similar to that in the US hotel markets: 2.7 percent per annum on average.

Yet, despite the projected tourism streams, this major pipeline is debatable. “There will be a short- to medium-term oversupply in individual micro-spots, in primary, secondary and tertiary locations,” says Heidi Schmidtke, Executive Vice President of the JLL Hotels & Hospitality Group. That will result in consolidation of the respective market and, above all, it will squeeze out poorly maintained hotels that do not have a strong brand connection. Combined with an enabling economic environment and a continuing rise in global demand, it should be possible to absorb the additional supply in the locations in the long term.

Hotel developments will become more difficult

Daniel Schneider sees the situation through an architect’s eyes. “As the range of new concepts and brands continues to grow unabated, it is increasingly important to place the right product at the right place,” says the founder of Monoplan. This firm of architects, which specialises in hotels, has converted a former telegraph office in Zurich for the city’s first Motel One – and done so very successfully: the hotel has seen above-average occupancy rates since it opened in 2017.

Clemens Engelhardt, lawyer and partner in Trustberg LLP’s Munich office, has many years of experience as a hotel expert. He advises we should not use short-term benchmarks to assess whether the market situation for hotels is currently uncertain, since a hotel investment is a project that runs for many years. Since rental, lease and hybrid contracts generally run for 20 to 25 years, with options to extend, it is vital that hotel projects work effectively beyond economic cycles. That means that simply switching to B sites or C locations is definitely not the solution. Only if the location and hotel concept are a good fit can investors expect to generate the yield they are looking for.

That is why buying development projects used to be popular. But here too the challenges are greater than in the past – due to constantly rising construction costs, for example; the shortage of skilled workers in construction is also making itself felt now, causing delays and incurring additional costs. A further constraint is the availability of land for development. “That is why the extended stay and economy segment is particularly worthwhile for investors because these concepts are resilient in times of economic contraction,” says Markus Lehnert, Vice President of International Hotel Development at Marriott International. In times when building land is in short supply, it is important to identify the locations of tomorrow and develop them profitably. What would have been an impossible site yesterday can be a hip and trendy game changer tomorrow.

Concepts: stylish, mixed use and extended stay

More and more brands are crowding the markets, but not every brand achieves such a sharp definition that sets it apart as Motel One, with which Dieter Müller has made the budget hotel business investment-worthy. He prioritises central locations, high quality and excellent value for money. A lot of people in the business have latched onto the budget trend and many new concepts, such as Selina, will appear over the next few years. This well-known brand in Latin America targets millennials and "digital nomads" and deliberately opts for hotels in trendy locations in the late phase of their cycle. It offers owners leases that run for 20 years or more and converts the hotels within three to six months after contracts are signed. Netherlands-based Cycas Hospitality focuses on double-decker hotels, such as the new Moxy and the Residence Inn in Amsterdam. “It is not always easy for investors to find good properties because plots of land are hard to source and construction costs are rising. The advantages of size and rational design, combined with multi-brand hotels, have become exciting over the last few years,” says Eduard Elias, founder of Cycas Capital, Amsterdam. Mixed-use properties, combining hotel, residential and work space, are also more in demand than ever.

The hotel industry remains a people business

The quality of the hardware is just one aspect. It is people who are the life blood of a hotel. Urban hotel design and hospitality in practice have to work hand in hand for guests to feel happy. But in many cases where new products and hotel locations have become investment-driven rather than operator-driven, the human factor can quickly become relegated to second place. Anyone who prioritises yield over people will not enjoy long-term success, especially since digitalisation is driving forward the consolidation process in the industry even faster. Online booking sites are now also planning to invest in their own properties.

That shows that the hotel business is still interesting but investors will have to cope with more variables in the future. Provided there is no exogenous shock, the current enthusiasm for travel makes a huge correction to property values in the hotel segment seem unlikely in the short term. Nevertheless, investors should be prepared for a decline and keep in mind that “It’s better to prepare than repair.” “Anyone who has good quality properties in their portfolio and solid, long-standing know-how in the hotel business need not be concerned about the boom phase coming to an end,” says Andreas Löcher of Union Investment.

By Beatrix Boutonnet